Stricter IRS Art Appraisals Raise the Bar for Tax Benefits

The Internal Revenue Service’s Art Advisory Panel made sharp adjustments to the estimated value of artworks listed as part of individual tax returns in 2006, according to the panel’s recently released Annual Summary Report.

NEW YORK—The Internal Revenue Service’s Art Advisory Panel made sharp adjustments to the estimated value of artworks listed as part of individual tax returns in 2006, according to the panel’s recently released Annual Summary Report.

Most of the works submitted to the panel for review fell in the category of estates and gifts, where lower appraisal values translate into lower estate taxes for heirs and recipients. This was where the lion’s share of the changes took place, with the panel adjusting the value of the works upward by about 95 percent.

The panel also reviewed a much smaller group of artworks that had been donated to museums. Here, the higher the value of the object, the bigger the tax deduction the donor is allowed to take.

The grand total of adjustments for the 2006 tax returns—$126.5 million—is more than double that of 2005 ($62.9 million) and far in excess of figures for the preceding several years ($89.5 million in 2004, $68.7 million in 2003 and $46.9 million in 2002).

Escalating prices for artworks in the current market, especially for contemporary art, have made the task of assessing correct appraised values for individual pieces more difficult.

“There are so many different markets out there now. It is harder to do an appraisal,” says Karen Carolan, who chairs the IRS Art Advisory Panel. She tells ARTnewsletter that the panel “looked at fewer items, but they were of much greater value.”

Owing to the time lag between appraisal submissions and the panel review, Carolan predicts that 2006 changes to the laws governing fractional gifts of objects to museums may present challenges when donated 2007 items come before the panel, since donors may seek higher initial values to make up the difference. For instance, a collector might claim an artwork with a current fair market value of $100,000 is actually worth $250,000, since its value is likely to increase over the ten- year period in which the gift is made.

In 2006 Congress passed the Pension Protection Act (PPA), which includes several provisions aimed at cracking down on misstated appraisals, along with other loopholes for potential abuse in the donation of personal property. The bill also tightened regulations for fractional gift giving, a form of donation in which a collector can take tax deductions for several years before completely transferring possession of the artwork to an institution (ANL, 5/1/07, pp. 2-3).

For example, the PPA now limits the period of the gift-giving to 10 years, instead of permitting the owner to stagger tax benefits over a period of years for maximum benefit, and establishes its value at the time of the initial gifting. The appraisal value cannot be altered, even if the fair market value of the work climbs higher in ensuing years.

The Art Advisory Panel, which was established in 1969, is brought in to evaluate appraisals of artworks valued at $20,000 or more. The 20-member panel is comprised of a mix of curators, dealers and scholars with a broad range of expertise, spanning areas from Old Masters to contemporary art.

Among dealers serving on the 2007 panel were PaceWildenstein president Douglas Baxter, Acquavella Galleries director Michael Findlay, Mitchell-Innes & Nash president Lucy Mitchell-Innes and Old Master drawings and prints dealer David Tunick, as well as antiques dealers Leon Dalva and Leigh Keno and art advisers Christian Jussel and Nancy McClelland.

Experts from the museum world included Stephanie Barron, senior 20th-century art curator at the Los Angeles County Museum of Art; Edgar Peters Bowron, curator of European art at the Museum of Fine Arts, Houston; and Ann Temkin, curator of paintings and sculpture at the Museum of Modern Art, New York.

The panel met twice in 2007 to review appraisals of 1,638 objects, part of 124 tax returns, with a total taxpayer valuation of $219.2 million. Panelists see photographs of the artworks in question; rarely do they observe the actual works. The panelists must also rely on written information about previous sales and reports on the condition of the objects.

Most of the recently reviewed artworks—1,588 objects—fell in the category of gifts and estates; 849, or 53 percent, of these appraisals were adjusted upward by a total of 95 percent, from $127 million to $248 million. Another 7 percent, or 106 objects, were adjusted downward, from $8.9 million to $5.4 million; and the claimed valuation of the remaining 39 percent (618 items) was approved at $75.3 million.

The remaining 50 items were in the category of charitable contributions; and 39 of them (or 78 percent) were adjusted downward by a total of 57 percent, from $3.4 million to $1.4 million. Appraisals of 11 other objects were accepted at a total of $2.9 million.

Since 1985, donors to charitable institutions have been required to include a valid appraisal on their tax returns if a donated object is valued at $5,000 or more, or over $10,000 when it is a closely held stock. The appraiser must also submit some form of written documentation to show the basis on which the evaluation is made.

Museum Acquisitions Under Fire

The raid by federal agents last January on four museums in California, in search of artifacts smuggled from developing nations, highlighted the fact that many of the recovered items had been donated to these institutions at appraised values below $5,000—the benchmark at which an appraisal would be required under the law. “There was a concerted effort to avoid us, that’s for sure,” Carolan says. “They were trying to fly under the radar.”

Taxpayer penalties and fees are assessed according to the degree to which the IRS determines that values have been distorted as the result of under- or over-reporting. Under the PPA, appraisers must all meet higher standards, such as having completed “college- or professional-level coursework” in art, and are subject to fines as well where abuses are identified.